Global funds are searching for solutions to a difficult year

Where next? The $26tn question for public pension and sovereign funds

Global public pension and sovereign funds have an outsized influence on global financial markets. Where they put their money matters. OMFIF’s Global Public Pensions 2023 report explores how this group of investors are building optimal investment strategies to address the uncertain economic environment and factor sustainability into their portfolios.

The report draws on surveys, discussions and written contributions from 22 global public funds across the world with combined assets under management of $4.3tn. These include the likes of Singapore’s GIC, Canada’s CDPQ, Australia’s Future Fund and India’s National Infrastructure Investment Fund. It also analyses the annual reports of the 50 largest public pension funds and 50 biggest sovereign funds that together have $25.9tn of firepower.

Many of them have had a difficult year. That $25.9tn fell slightly compared to 2022, following two years of substantial growth in assets. But the slight fall masks stark differences in investment outcome: pension funds with a high allocation to fixed income, for example, suffered dramatic losses which will take some time to recover.

Inflation is no longer the sole concern of public pension and sovereign funds. They are also focused on how to deal with a macroeconomic environment that is stuck in a higher-for-longer interest rate cycle. Over 60% of survey respondents selected equilibrium real interest rates as a top-three factor impacting their 5- to 10-year investment strategy. That is double the share from last year.

In response, funds are taking a more granular and active investment approach. Many are looking to inflation-proof their portfolios and tilt away from rate-sensitive assets. A net 40% of survey respondents expect to increase their exposure to infrastructure over the next 12-24 months – broadly the same as last year. Funds are also open to other inflation-protected assets such as inflation-linked government bonds and commodities. In contrast, a net 13% of funds expect to reduce their holdings of real estate and conventional government bonds.

The report highlights important differences in attitudes to emerging markets. Close to 40% of surveyed funds selected India as the most attractive emerging market. Attitudes towards China are more sanguine. No surveyed fund has a positive outlook for its economy or expects higher relative returns from Chinese assets. The majority (73%) highlighted regulation and geopolitics as the main deterrents.

Sustainability is becoming an important focus for public pension and sovereign funds. Almost all those surveyed integrate environmental, social and governance factors into their portfolio decisions. Over a third of survey respondents expect to increase their allocation to green bonds and green real assets in the next 12-24 months. In general, most expect to raise investments in renewables. And they seem realistic – it will take tough action and dialogue with portfolio companies to drive the real-world energy transition.

All in all, wherever and however public pension and sovereign funds invest, they face a demanding period ahead. As one leading US pension fund said: ‘One thing is clear, the investment strategies that worked over the last ten years may likely not work the next ten years.’



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